What exactly is inflation? Why is it going up? And most importantly, how will this affect me?

Inflation is making headlines everywhere, particularly in recent months, where the Office of National Statistics reported inflation had increased from 9.4% in June to 10.1% in July.

So the questions many of us have are what exactly is it? Why is it going up? And most importantly, how will this affect me?

What is inflation?

Inflation is the rate at which the general level of prices for goods and services is rising and, consequently, the purchasing power of currency is falling. Central banks attempt to stop severe inflation, along with severe deflation, in an effort to keep the excessive growth of prices in check.

Inflation can be caused by an increase in the money supply, a rise in government spending, or a decrease in taxes.

In the short run, inflation is often caused by an increase in aggregate demand (AD). When AD increases, so do prices. The main reason AD increases are that the government is spending more money than it is taking in through taxes. This is called fiscal expansion. When the government spends more money, people have more money to spend, and businesses have more money to invest. The result is that prices go up.

In the long run, inflation is often caused by an increase in the money supply. When the money supply increases, so do prices. The main reason the money supply increases is the central bank creating more money, which results in rising prices.

Why is inflation increasing now?

The conflict between Russia and Ukraine has been a huge factor behind the cost of living crisis, coupled with the upheaval of COVID, and a freezing winter and scorching summer which has caused periods of frost and drought. This contributed to supply chain issues, resulting in the fuel shortage earlier in the year and soaring commodity costs. All of these factors have created what Forbes describes as "the perfect storm".

How will it impact people?

Inflation will impact people in different ways. Some will benefit from inflation, while others will be hurt by it. Those who benefit from inflation are typically debtors. This is because when prices rise, the value of their debt decreases as they can repay their debt with cheaper British pounds. In addition, savers will be hurt by inflation because the purchasing power of their savings will decrease.

The Bank of England's Financial Stability Report warned those with high levels of debt will find themselves 'most exposed' to further price rises of essential goods such as food and energy. This will only worsen if costs continue to climb quicker than expected or it becomes more difficult to borrow.

Conclusion

Overall, inflation can be a mixed bag. It can help some people while hurting others. The escalating prices are triggering changes in behaviour for many people and businesses, subsequently causing a lot of fear and uncertainty.

If you are experiencing debt from a personal or business perspective, we are able to help. Bankruptcy isn't always the only option; there are a number of solutions, such as an Individual Voluntary Arrangement or Debt Relief Order, which can be put in place first. However, it is essential to act now. So if you would like to discuss this further, please do get in touch with the team at enquiries@frostbr.co.uk.

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